IMF Reiterates Downbeat U.K. Economic Outlook as Analysts Warn of Oil Price Headwinds

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- IMF reiterates downbeat U.K. economic forecasts for 2019/20.

- Assumes Brexit deal will be reached, warns against WTO Brexit. 

- Just as BofAML flag mounting economic headwinds from oil prices.

The International Monetary Fund (IMF) reiterated its forecasts for a tepid U.K. economic performance over coming years just as Bank of America analysts warn that headwinds from rising oil prices could put a further dent in growth. 

The Washington-headquartered IMF projects U.K. growth of 1.4% for 2018 overall, down from 1.7% back in 2017.

This is the same prediction produced back in July although it represents a reduction of 0.2% when compared with estimates released in April. 

Even that performance is hinged upon the U.K. government succesfully navigating the Brexit gauntlet to strike a favourable deal with Brussels. 

Continued unfettered access to the EU's market for goods as well as an agreement that avoids an exodus of financial firms from the City of London are both key assumptions in the IMF analysis. 

The forecasts came against a backdrop of downgrades to projections for global growth, as well as the likely U.S. and Eurozone economic performances. All are three are forecast to grow at a slower pace in 2019 than they were in July. 

"Our baseline forecast, which underlies our forecast for the U.K. and for the eurozone, is that a deal will be reached. It will be one in which trade in goods is essentially tariff‑free, which would allow most supply chains to remain intact. It is one in which the regime for financial services would be, you know, quite favorable to the U.K.," says Maurice Obstfeld, director of economic research at the International Monetary Fund. 

U.K. growth already slowed from 0.4% at the end of 2017 to just 0.1% in the first quarter. It rebounded in the second quarter, with GDP rising 0.4%, but consensus is that output will increase by only a paltry 1.3% for 2018. 

The IMF's forecast update comes as negotiators from both sides of the English Channel seek to agree terms of the U.K.'s withdrawal from the EU ahead of the next European Council summit, which runs for two days from October 17. 

If an agreement is not reached in time for the council to approve it this month then the odds of a so called no deal Brexit will have risen, because the eventual deal must be approved by the council and ratified in all parliaments across the EU before the U.K.'s March 29, 2019 exit date. 

Disagreement over how to manage the Northern Irish border in the event a trade deal is not agreed at a later date has been standing in the way of a deal after Brussels rejected Prime Minister Theresa May's "Chequers plan" at a summit in the Austrian city of Salzburg in September.

The EU's current Irish border proposal of customs union membership and continued "regulatory alignment" for Northern Ireland would mean either all of the U.K. remaining inside the EU customs union and single market, or a de-facto sea border being installed between the island of Ireland and Great Britain.

The latter is something PM May has said "no U.K. Prime Minister could ever agree to". However, the government is widely reported to be offering a series of further concessions to the EU, including customs union membership for all of the U.K., in order to get a "deal" done this month. 

"We know the negotiators have been working very hard. In fact, there has been a remarkable amount of progress on a lot of issues, and this often goes unnoted. But there are some very key elements that have not been resolved and that seem very difficult. So, until we get more information, we will keep with our assumption that reason and good policy will prevail. And hopefully we will be proven right," says the IMF's Obstfeld.

The Brexit negotiations are arguably the most important factor that will determine economic performance over coming years, but the threat of a "no deal Brexit" where the U.K. defaults to trading with the EU on World Trade Organization terms is not the only perceived or actual risk facing the economy. 

2018's sharp rise in oil prices is also a threat because it is wreaking havoc on the consumer price inflation picture the world over, including in the U.K.

Brent crude oil futures have risen more than 27%, to $84.32 per barrell, and their highest level since 2015 this year due to fears Iranian production will soon leave the market again and thanks to Organization for Petroleum Exporting Countries multi-year efforts to push prices back up by gaming the system. 

After the rout that saw oil fall from $114 per barrell in 2014 to a low of just $27 in January 2016, which ushered in a period of disinflation that had pundits the world over exorting the dangers of deflation, the 2018 comeback is having the opposite effect. In other words, rising prices have now got economists forecasting a sharp increase in inflation over coming months.

This is a problem for economy-watchers because the GDP figures the market really cares about are the ones that reflect growth after taking into account inflation. And if inflation rises without a concurrent increase in economic activity the pushes up nominal growth, then real GDP growth will fall. 

This threatens to see a Brexit-stricken U.K. economy further underperform its counterparts over the coming year, regardless of the outcome from the Brexit negotiations.

"The Iran oil sanctions, shale bottlenecks, the collapse of Venezuela and demand growth pose upside risk to oil prices. If oil remains around $100/bbl next year, growth in the Euro area, the UK and Japan would slow by a few tenths [of a percent]," warns Ethan Harris, an economist at Bank of America Merrill Lynch, in a recent note to clients.

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